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Are crypto assets a game changer for investors?

As recent as last year, crypto was not taken as seriously as it is today. But now, cryptocurrencies are increasingly growing in popularity as viable investment assets. The reality is that institutions cannot afford to ignore crypto in our current marketplace.

Evidence of crypto’s growth can be seen in the expansion of this nascent asset class. One of the most current developments has been the availability of futures contracts that settle in bitcoin.

Recently, the CFTC granted approval for exchanges, ErisX and LedgerX to launch crypto futures, with Baakt and Binance soon to join the list as well. Does the development of the crypto market mean that investors are growing more comfortable with idea of digital currencies? Yes, it seems to be the case.

Crypto assets have some unique benefits...

After all, there are clear benefits to digital currencies versus traditional investments. They are decentralized, highly fungible, easy to transfer, and many individuals prefer how the control of the money resides with the investor, rather than the banks. So, there could be something to the longevity of crypto after all.  And, in fact, Juthica Chou of LedgerX, was quoted in a recent Water’s Technology article, remarking that bitcoin is superior to gold, as it offers “a fixed supply of all of the things that people like in a commodity.” Indeed, strong appeal for bitcoin does reside in its lower delivery costs and stellar hedging efficiency.

Recently specialized crypto custodians have begun to make their services available. Whereas in the past custodianship was a major hurdle to institutional investment, it is no longer the case that investors need to be adept at the equivalent of storing crypto under their mattress. Now companies like BitGo offer custodianship that not only benefits their clients with the technological and process framework to allow for cold storage, it also offers clever engineering to allow for the seamless trading of those funds from their cold storage.

But, there are risks…

These advantages aside, some investors continue to be hesitant. With traditional products, one pays a financial institution a fee in return for a secure store for their funds. However, with something like bitcoin, the bank is left out of the picture. Thus, bitcoin users must be wary of possible cyber-attacks and hope that hackers don’t make off with their bounty.

One issue is that crypto-assets are not regulated like traditional assets. Thus, there are concerns over the potential for market manipulation and fraud. This level of risk is something that many institutional investors are unwilling to take on.

Interestingly, expansion and regulation of crypto were two topics that were top of mind at an event I recently attended: The Tabb Group’s 2019 Crypto Conference. I learned that there is interest in expanding coverage of crypto futures to different coins, as well as a push for crypto exchanges to sell not just cryptocurrency, but crypto assets like tokens (which are somewhat similar to securities or shares). 

With all this growth, there is a definitive need for greater regulation… 

Regulations will soon need to be put into place that govern the technical aspects of the blockchain, crypto assets and security tokens, not just the financials. Questions in the mind of many investors include, “How do we know this coin can be traded securely? and “How can we be sure that the cryptography doesn’t have ‘back doors,’ or the quantum computing won’t crack it in five years?” Such issues are major risks for investors and the fact is regulators seem to be far off from addressing these sufficiently.   

Furthermore, the relative 'newness' of crypto investments means that exchanges still have some kinks to work out with the technology. Because the exchanges lack standard API’s, this can make trading crypto currencies more difficult. However, on the flip side, there is evidence that the exchanges are working diligently on getting more ‘institutional’ through initiatives such as building out user management, accounting and useful back office features. 

All in all, I think there are some wrinkles to iron out with this emerging investment. But I do believe that crypto products have their place and will without question be around for some time.

There is also a need for flexible technology…

The key to capturing new opportunities, such as those found in the crypto markets, is having the right technology available at your disposal. I cannot emphasize enough how important it is for firms to have portfolio and risk systems that are future-proof and flexible to change. Having such a system enables you to easily move where new opportunities may lie, without constraint or experiencing delays and expenses related to development work. For instance, FINCAD F3 is our flexible enterprise solution for modeling, pricing, valuation, and risk management of complex investments. This solution has helped numerous firms quickly capture new trading opportunities like crypto assets and others. You can learn more about FINCAD F3 in our quick video
 

About the author

Orlando Calvo Arias's picture

Orlando Calvo Arias

Financial Quantitative Analyst, FINCAD

For the past two years, Orlando has worked closely with FINCAD’s sales team as a technical and quantitative analyst, designing enterprise valuation and risk solutions based on FINCAD’s F3 technology. Prior to joining FINCAD, Orlando was a FINCAD client at KPMG and DerivActiv.

Orlando holds a degree from Babson College, where he concentrated in finance. He has 10 years experience in financial derivatives valuation.

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